STRENGTHS

WEAKNESSES

Conflict with Russia and Russian-speaking populations in the east with threats to territorial integrity

Political and social instability due to widespread poverty, corruption, and an oligarchy

Limited economic diversification: metallurgy, cereals

High levels of public and foreign debt

Banking system weakened by non-performing loans

RISK ASSESSMENT

Recovery in economic activity in 2018

After being hit in 2017 by the suspension of trading relations with its eastern regions (Donetsk and Lougansk), controlled by Russian-supported separatists, the Ukrainian economy should grow at a faster rate in 2018, driven by both domestic and export demand. Household spending is once again set to be the biggest contributor. With elections scheduled for 2019, wages are likely to rise strongly, echoing the doubling of the minimum wage in 2017. The basic pension was also raised by 10% in October 2017. Finally, real income levels will likely also benefit from a slowing in inflationary pressures, linked with a slower depreciation of the hryvnia (the local currency), although higher charges for certain public services (heating, electricity), as well as the prices of imported goods, will continue to add to rising prices.

The vitality of consumption should boost the retail, logistics and construction sectors. Agri-food exports (45% of the total), including cereals (wheat, maize) in particular, will be boosted thanks to a favourable 2017 harvest and the upwards trend in prices. Sales of iron and steel (25%), hit hard by the blocking of trade with the eastern regions (in which more than half of the production capacities are located), will feel the benefits of higher prices and growing European demand. This upturn is, however, at the price of increased imports of coking coal, previously available from the east of the country. These new imports, in addition to those of capital and consumer goods generated by the vitality of consumption, are likely to limit the contribution of trade to growth. Private investment will likely continue to be curbed by political and economic uncertainties, while public investment will be targeted on modernising and extending the (poor quality) road network. Any upturn on activity in 2018 will continue to be contingent on the stability of the situation in the country’s eastern provinces and relations with Russia.

High level of public and foreign debt

With public debt amounting to more than 80% of GDP (49% of which is foreign), and the cost of servicing this rising with the depreciation of the hryvnia (75% denominated in foreign currency), public finances are in a fragile state. The agreement signed in 2015 with the IMF included a USD 17.5 billion package in return for reforms. By October 2017, only half of this had been released.

The arrival of elections, and the fifteen year 7.4% USD 3 billion Eurobond issue in September 2017 to cover the budget and refinance debt, have encouraged the authorities to postpone or dilute the reforms. The increase in domestic gas prices appears to have been pushed back to the second half of 2018 (if a compromise can be reached with the IMF on the calculation formula), or until after the elections in 2019. The pension reforms to deal with an annual deficit equal to 5% of GDP were approved in October 2017. This includes an immediate increase in the number of years of contributions required from 15 to 25 (then gradually up to 35), an increase in these contributions, and the minimum pension. This may not be enough to enable the release of further tranches of the IMF loan. The elimination of the pension deficit will increase the primary surplus, hasten the reduction in the debt, and free up resources for investment, while in parallel military expenditure could reach up to 6% of GDP in 2018. There might also be a need, once again, to rescue the banking system, with a rate of non-performing loans at around 40%.

The trade deficit is expected to fall to around 4% of GDP in 2018. The growth in agri-food exports and the recovery in mineral, metals, and machinery, both to the EU and the CIS, will also have an impact. Revenues from road transport and remittances from expatriate workers in Russia and Poland will offset Ukrainian tourist spending and the repatriation of dividends. The current account deficit will be financed through FDI (reduced because of political uncertainties), multilateral loans, and possibly IMF loan payments and the markets. Currency reserves covered around four months of imports in October 2017. Foreign debt amounts to approximately 110% of GDP, with half owed by the public sector and 71% denominated in dollars. The depreciation of the hryvnia is likely to continue, with the extent depending on the speed of reforms and the situation in the eastern provinces. Restrictions on capital movements will likely remain in force.

Uncertainty surrounding reforms and fighting in the east

Petro Poroschenko was elected President in May 2014, following the removal of Viktor Ianoukovitch, triggered by the protest movements (Maïdan), at the end of 2013. The two pro-western parties (Petro Poroschenko Bloc-BPP and the People’s Front-PF) dominate parliament. However, the government – facing the oligarchy, with upcoming elections and a population anxious about the economic and geopolitical crises – does not have a coherent and stable majority to be able to fight corruption, speed up the rate of reform, or make progress in resolving the separatist problem. The Minsk II Agreement, signed at the beginning of 2015, reduced the level of clashes between the Ukrainian army and the pro-Russian separatist movements, but without ending the conflict. The situation remains resolutely unstable, overshadowed by the constant fear of a sudden escalation.